His emergency policies aided recovery but now Yellen must engineer a
successful escape

Today marks a change of regime involving what some people believe to be the most important job in the world. For it is the first working day of the new chairman of the US Federal Reserve, Janet Yellen.

And, by definition, the first non-working day for eight years for the previous incumbent, Ben Bernanke. So this is an appropriate time to take stock of Bernanke’s legacy, and of the challenges that lie ahead.

Assessing the performance of a Fed chairman just after they have left office is a dangerous business. History has a way of revising its judgments – even more substantially than the ONS revises its economic statistics.

Before Bernanke, Alan Greenspan was in the job for nearly 19 years. For most of that time he was regarded as a combination of wizard and saint. In September 2002, he received an honorary knighthood from the Queen. When he left office, in 2006, markets and commentators wondered how the US economy, and indeed the world, could manage without him.

Before very long, though, as the true extent of the financial disaster became apparent, Alan Greenspan’s reputation underwent a full revision. Soon he was regarded as one of the principal architects and sustainers of the financial practices and structures which caused the financial collapse of 2007-08 – and therefore of the subsequent deep recession. In a flash, he went from hero to zero.

Ben Bernanke took over at a critical moment for the US economy. He, too, made a serious error, related to Greenspan’s. He was slow to realise that the US housing market, and particularly the sub-prime sector, posed a systemic risk to the financial system and indeed to the whole US and world economies.

But when he realised what was happening and what was at stake, Bernanke took radical action. He presided over dramatic innovations in financial and monetary policy, including the programmes of asset purchases known as quantitative easing (QE).

Indeed, he was so in favour of the policy that his nickname was “helicopter Ben”, reflecting the musings of the high priest of monetarism, Milton Friedman, who had once hypothesised the central bank expanding the money supply by sending a helicopter to fly over cities dropping dollar bills on the bemused population beneath.

This is the sense in which Bernanke’s reputation is still in the melting pot. Keynesian interventionists like me believe that his actions saved the day. I have never believed that QE was a magic bullet but I suspect that in the US it, and the other support programmes, prevented a complete disaster. Bernanke’s unorthodoxy was backed up by his profound and detailed study of the Great Depression in the US and the recent deflationary stagnation in Japan.

His studies convinced him that at almost any cost the Fed must prevent the US slipping into deflation. In the conditions of a heavily indebted economy, he was right.

Because deflation hasn’t happened, people are inclined to think that it was never a serious danger. They are wrong. In my view, it hasn’t happened precisely because of the policy actions undertaken to prevent it.

The opposing policies are there to be witnessed in the eurozone, where the ECB continues to set its face against outright QE, even though the eurozone economy has been extremely depressed. The result is that some member countries are already experiencing falling prices and before long the whole zone could be in the grip of deflation. If that occurred, it would be an interesting demonstration of what could have happened in America. It would not be a pretty sight.

But of course there are some people – including many in Congress – who think that Bernanke has been the economic equivalent of the devil incarnate. They look at the huge injections of money and the commensurate expansion of the Fed’s balance sheet and see inevitable inflationary disaster in the future. They could be right. Just as Greenspan’s reputation underwent a complete about-face when the reality of the crash of 2007-08 dawned, if and when US inflation turns up decisively, so Bernanke’s reputation would take a battering.

I have to say, though, as things stand, I don’t think this is likely. The economic indicators certainly don’t support an imminent surge in inflation.

Moreover, when the time comes, if circumstances require, the Fed can reverse its QE policy by sending the helicopter out equipped with a giant hoover to suck the money up again.

This would amount to reverse QE, or quantitative tightening (QT), effected by selling bonds into the market. And if it decided not to do this, perhaps for fear of causing mayhem in the bond markets, the Fed could freeze the cash on banks’ books by forcing them to hold extra reserve requirements. In short, an upsurge of inflation is by no means inevitable.

Yet even if this did occur, it would not necessarily be an indictment of Bernanke’s policy. For, ghastly though inflation is, it can sometimes be the lesser of evils. After the implosion of 2007-08, the financial system was on the brink of collapse. If this had happened, it could have made the Great Depression look like a children’s tea party. Bernanke’s policies prevented this, and in my view he should go down as a truly great Fed chairman.

Quite apart from the substance of what he did, Bernanke also introduced a marked change of style. Whereas his predecessor, Alan Greenspan, was a master of opacity, Bernanke sought to be much more open and transparent.

To this end, the Fed now operates a 2pc long-term inflation goal, and under Bernanke the Fed began to conduct press conferences after each monetary policy decision.

What’s more, he tried to be clear and to answer questions. By contrast, only partly tongue in cheek, Greenspan once said, “Since I’ve become a central banker, I’ve learned to mumble with great incoherence. If I seem unduly clear to you, you must have misunderstood what I said.”

As to the future, Janet Yellen faces some major hurdles. Stopping the economy from collapsing was Bernanke’s essential challenge.

She now has to engineer an escape from the emergency policies of the crisis, including both near-zero interest rates and the huge asset purchase programme, without clobbering the recovery and/or causing a bond market bloodbath, and without allowing inflation to take off.

On the face of it, her challenge is less demanding than Bernanke’s.

But on sober reflection, getting out of anti-depression policies successfully may be more difficult than getting into them in the first place.